The Commission on Local Tax Reform: Volume 1 – Just Change: A New Approach to Local Taxation
06 What are the Wider Impacts of Alternative Local Taxes?
- Taxes on property or land are hard to avoid as they are based on something fixed, whereas taxes on income present more challenges to collect.
- Taxes based on the value of property already influence the decisions people make about how much they are prepared to pay for houses.
6.1 Taxes can change the way people behave. Under the pre-2014 Stamp Duty Land Tax for example, homes being sold at £125,001 and £250,001 faced much greater charges than homes priced £1 less. Property transactions therefore clustered at £125,000 and £250,000 as homebuyers sought to minimise the amount of tax they had to pay.
6.2 Ideally, taxes will not influence the way people and businesses make decisions, rather they should be made on merit and not as a response to a tax system. The exceptions to this are where a tax is applied to something undesirable, such as on carbon use, tobacco or the landfilling of waste. In those cases, taxes are specifically designed to change behaviours.
6.3 Our remit, requiring us to consider “the wider macro-economic, demographic and fiscal impacts, including housing market and land use”, therefore means we have assessed whether alternative taxes will influence the decisions people make and what the wider consequences might be.
Local Taxes and the Choices People Make
6.4 Taxes on both property and income can influence what people do. Our call for evidence highlighted some research showing that recurring taxes on property have some impact on the prices people pay for homes – so if a property incurs a high level of taxation then people will factor that into the maximum price they are prepared to pay for it. Similarly, people appear to be prepared to pay more for property if it incurs little or no tax liability. Research on this in the UK is not extensive, but work carried out to analyse the impact of the abolition of domestic rates at the end of the 1980s did find evidence of a resultant increase in prices when taxes on residential properties were removed temporarily.
6.5 Those arguing for land taxes base much of their case on the benefits arising from the way people would respond. They suggest land taxes would create an incentive to develop land to its fullest potential use, because the same charge would be levied irrespective of whether the site is abandoned or put to productive use. Owners and potential developers of derelict land would be particularly affected. For domestic owners, a tax solely based on land values would not provide any disincentive for people to improve their home and thereby increase its value.
6.6 One other argument for land taxes relates to the fact that the quantity of land is fixed. A land tax is levied on the value of the land itself and not what is built on it. A land tax may make the price of land fall because, as with property, tax liabilities influence the amount of money people are prepared to pay. Furthermore, it is not possible to manipulate the market by reducing the supply of land or destroying land that already exists. For these reasons, a land value tax is favoured by many economists as being the tax that influences behaviour the least.
6.7 Neither land nor buildings can be moved and therefore both are difficult to conceal. This means the scope for people to do things to avoid or reduce a local land or property tax bill is limited, short of moving to a lower value property or to a different local authority area.
6.8 This is not the same for a local income tax. Collecting a local income tax would necessitate additional effort to overcome the likely increase in tax avoidance activity. There would be an incentive to reduce local tax liabilities on earned income, for example, by seeking to receive income as dividends if these were not subject to the tax.
6.9 If a local income tax was locally set, allowing councils to determine their own rate of local income tax in their local authority area, over time, such a system would see variation across the 32 local authority areas in Scotland. We heard claims that this might result in high-earning individuals (who would be paying the most under a local income tax, irrespective of their property value) seeking to live in a local authority with the lowest rate or indeed in a different part of the UK – behaviour sometimes referred to as fiscal flight. Large differences in the level of property tax might be expected to have a similar impact – the present Council Tax already varies from area to area and increased local flexibility, or changes to the structure of the present arrangements, could result in such variations becoming greater.
6.10 The replacement of the present Council Tax with a local income tax would also mean the loss of one taxation instrument designed to induce behavioural change – the premium that can be levied on the bills of unoccupied properties to encourage owners to bring them back into use.
6.11 A local income tax, replacing the present Council Tax, and applying on top of the existing income tax rates, could also lead to other changes in behaviour. It may reduce incentives to work for some households, for example where there may be a fine line between the benefit of hours worked versus the cost of paying for services such as childcare. This must be viewed in the context of labour market opportunities and whether or not adjusting hours worked is a realistic possibility. However, it could also reduce incentives to work altogether, for example, for those households currently on out-of-work benefits, higher income tax rates will reduce the benefit associated with returning to work. This disincentive is also present in the tapering of the current Council Tax Reduction scheme (which is included in our models of alternative property taxes), where 20% of “excess” earnings are expected to be put towards current Council Tax bills. Indeed there are households in work that pay all or part of their Council Tax bill but who do not pay income tax because their earnings are below the personal allowance.
6.12 Changing the base of a property tax to up-to-date values (rather than those from 1991) will result in a geographical shift in the tax base within Scotland. House price increases have not been the same in all areas. This means that some local authorities would become more dependent on grants from central government and others less so. The analysis we conducted with Heriot-Watt University looked at the likely impact on seven local authorities and found that all else being equal, revaluation would increase the size of the Council Tax base in Edinburgh and Aberdeenshire, and lower the size of the tax base in Argyll and Bute, Dumfries and Galloway, Fife, Dundee and Inverclyde.
6.13 The geographical impacts of a land value tax would be largely similar to a property based tax, although our analysis has found a likelihood of higher tax bills per square metre of land in valuable city centre locations and lower liabilities in outlying and rural areas. The actual liability for a household will depend on the amount of land owned and the planning permissions that exist on that land, as well as eligibility for any discounts, reductions or exemptions.
6.14 A shift in the tax base from the present Council Tax would also occur under a local income tax – some areas are associated with higher income levels than others. Therefore all alternative systems would see some areas raise more or less tax revenue than compared to the present arrangements.
6.15 As a result, the distribution of central government funds to local authorities will need to be reviewed and adjusted in order that no local authority loses out if the size of its tax base falls.